IBM - PART 1 - ARE 112

meeting the IBM team

After the press conference came a series of internal IBM meetings - As I look back at my schedule, I see that the first meeting the IBM human resources people had set up was a telephone conference call with the general managers of all the country operations around the world, underscoring that the power base of the company was the country leaders. he then went to headquarters in Armonk, NY When John Akers had suggested this meeting earlier in the week, he had assumed it was going to be simply an opportunity for me to meet the senior members assembled. However, I viewed it as a critical opportunity to introduce myself and, at least, set an initial agenda for my new colleagues. I worked hard in advance organizing what I wanted to say to the group. (In fact, in researching this book, I discovered detailed notes I had prepared—something I don't do very often for informal meetings.) - I started out explaining why I took the job—that I hadn't been looking for it, but had been asked to take on a responsibility that was important to our country's competitiveness and our economy's health. I didn't say it at the time, but it was my feeling that if IBM failed, there would be repercussions beyond the demise of one company. I indicated that I had no preconceived notions of what needed to be done and, from what I could tell, neither did the board. I said that for each of them (and for me!) there would be no special protection for past successes. But I clearly needed their help. I then dealt with what I described as my early expectations: "If IBM is as bureaucratic as people say, let's eliminate bureaucracy fast. Let's decentralize decision making wherever possible, but this is not always the right approach; we must balance decentralized decision making with central strategy and common customer focus. If we have too many people, let's right-size fast; let's get it done by the end of the third quarter." I explained that what I meant by right-size is straightforward: "We have to benchmark our costs versus our competitors and then achieve best-in-class status." I also remarked that we had to stop saying that IBM didn't lay off people. "Our employees must find it duplicitous and out of touch with what has been going on for the last year." (In fact, since 1990, nearly 120,000 IBM employees had left the company, some voluntarily and some involuntarily, but the company had continued to cling to the fiction of "no layoffs.") Perhaps the most important comments I made at that meeting regarded structure and strategy. At the time, the pundits and IBM's own leadership were saying that IBM should break itself up into smaller, independent units. I said, "Maybe that is the right thing to do, but maybe not. We certainly want decentralized, market-driven decision making. But is there not some unique strength in our ability to offer comprehensive solutions, a continuum of support? Can't we do that and also sell individual products?" (In hindsight it was clear that, even before I started, I was skeptical about the strategy of atomizing the company.) I then talked about morale. "It is not helpful to feel sorry for ourselves. I'm sure our employees don't need any rah-rah speeches. We need leadership and a sense of direction and momentum, not just from me but from all of us. I don't want to see a lot of prophets of doom around here. I want can-do people looking for short-term victories and long-term excitement." I told them there was no time to focus on who created our problems. I had no interest in that. "We have little time to spend on problem definition. We must focus our efforts on solutions and actions." Regarding their own career prospects, I noted that the press was saying that "the new CEO has to bring a lot of people in from the outside." I pointed out that I hoped this would not be the case, that IBM had always had a rich talent pool—perhaps the best in the world. I said, "If necessary, I will bring in outsiders, but you will each first get a chance to prove yourself, and I hope you will give me some time to prove myself to you. Everyone starts with a clean slate. Neither your successes nor failures in the past count with me." Finally, I laid out an assignment for the next thirty days. I asked for a ten-page report from each business unit leader covering customer needs, product line, competitive analysis, technical outlook, economics, both long- and short-term key issues, and the 1993-94 outlook. I also asked all attendees to describe for me their view of IBM in total: What short-term steps could we take to get aggressive on customer relationships, sales, and competitive attacks? What should we be thinking about in our long-term and short-term business strategies? - As I look back from the vantage point of nine years' tenure at IBM, I'm surprised at how accurate my comments proved to be. Whether it was the thoroughness of the press coverage, my experience as a customer, or my own leadership principles, what needed to be done—and what we did—was nearly all there in that forty-five-minute meeting four days before I started my IBM career.

Chapter 9

All of our efforts to save IBM—through right-sizing and reengineering and creating strategy and boosting morale and all the rest—would have been for naught if, while we were hard at work on the other things, the IBM brand fell apart. I have always believed a successful company must have a customer/marketplace orientation and a strong marketing organization. That's why my second step in creating a global enterprise had to be to fix and focus IBM's marketing efforts. IBM won numerous awards in the 1980s for its ingenious Charlie Chaplin commercials, which had introduced the IBM personal computer. By the early 1990s, however, the company's advertising system had fallen into a state of chaos. As part of the drive toward decentralization, it seemed that every product manager in just about every part of the company was hiring his or her own advertising agency. IBM had more than seventy ad agencies in 1993, each working on its own, without any central coordination. It was like seventy tiny trumpets all tooting simultaneously for attention. A single issue of an industry trade magazine could have up to eighteen different IBM ads, with eighteen different designs, messages, and even logos In June 1993 I hired Abby Kohnstamm as the head of Corporate Marketing for IBM. She had worked with me for many years at American Express. What we had to do here was so important and urgent that I wanted someone who knew me and how I managed, and with whom I could speak in shorthand. Abby had an especially tough challenge. There had never been a true head of marketing in IBM. Few people in the business units understood or accepted her role, and at first they tried to ignore her. IBM was built on technology and sales. And, in IBM at that time, the term "marketing" really meant "sales." That's only a partial listing. While IBMclearly had to sell more of what it made, it also had to recast its image and reestablish its relevance to the marketplace. When I arrived at IBM, marketing was not considered a distinct professional discipline, and it was not being managed as such. I told Abby to take sixty days to do a situation analysis. if people don't buy into the logic, the change won't stick. Stage one was weaning IBM executives off the luxury of having their own advertising budgets, their personal agencies, and the discretion to order up an ad anytime they wanted to do so. One month there'd be no IBM advertising in important industry magazines; the next month we'd have so many pages that it seemed as if we were sponsoring a special issue. The latter was especially true in November and December, when marketing departments wanted to spend leftover dollars in their budgets.

CHAPTER 11

I had to admit, I felt pretty good. Few had given us any chance of saving IBM, but I knew now that the company was going to make it. We'd stopped the bleeding, reversed the breakup plan, and clarified IBM's basic mission. The holes in the hull had been patched. This ship was not going to sink. My thoughts turned to what lay ahead. What would Act II look like? Logic and my own experience dictated a straightforward set of priorities: Invest in new sources of growth, build a strong cash position, and do a more rigorous assessment of our competitive position. However, doing all of that wasn't enough. Even if we restored growth, even if we built up some momentum with customers, and even if we made the company more efficient and less bureaucratic—that wouldn't truly bring IBM back. For IBM's turnaround to be successful, this company would have to regain its former position of leadership in the computer industry and in the broader world of business. Most troubling was the computer industry's trajectory. Basically, it was moving away from IBM's traditional strengths. The PC wasn't an endgame, and the mainframe wasn't dead. But it was obvious that in the emerging computing model—of which the PC had been a harbinger—power was migrating rapidly away from centralized computing systems and traditional IT. And this was, in turn, changing the mix of IT customers. IBM sold to large businesses, governments, and other institutions. But more and more, IT was being bought by consumers, small businesses, and department heads inside big companies. The emerging computer model was also changing what those customers were buying. We built industrial-strength, behind-the-scenes computers and software while the world, it seemed, was moving to desktop, laptop, and palmtop. All of our research and development, engineering, and rigorous testing ensured that our product never went down. Reliability, dependability, and security—these were the bedrock of IBM's brand. But people didn't seem to mind rebooting their PCs three times a day. We sold through a direct sales force—the vaunted, blue-suited IBM customer representative; part salesperson, part business and technology consultant. A tremendous asset, but also the most expensive way to sell any product or service. The market was abandoning that model and going to retailers and toll-free numbers. Then, look at who we were up against! The people running our competition were, without doubt, the next generation of hyper-capitalists: Bill Gates, Steve Jobs, Larry Ellison, and Scott McNealy. These guys were hungry, and they stayed hungry no matter how much wealth they accumulated. And it was awe-inspiring the way they ran their companies, the people they attracted, how they paid them, their work ethic—young, aggressive, flexible, willing to work around the clock. The whole Silicon Valley ethos—lightning speed to market with just-good-enough products—wasn't simply foreign to IBM, it was an entirely new game. What we had done so far to unify IBM—reorganizing around industries rather than countries, consolidating our marketing, and changing our compensation plans—had been relatively easy to accomplish. What lay ahead—devising a strategy for a fundamentally new world and reinventing an encrusted culture from the DNA out—that was a challenge of a vastly different order. It was also important for the kind of corporate behavior to which it aspired. IBMers were battered, bruised, and confused. Many had retreated into a self-protective shell. But underneath that, they were still motivated by a genuine love of their company and of doing the right thing. What I'd come to realize during this second walk on the beach was that after all that initial work had been completed, we'd gotten ourselves only to the starting line. The sprint was over. Our marathon was about to begin. While the issue was no longer as stark as the demise or survival of IBM, the ultimate fate of this "national treasure" was far from settled. What would happen through the second half of the 1990s would determine whether IBM was merely going to be one more pleasant, safe, comfortable—but fairly innocuous—participant in the information technology industry, or whether we were once again going to be a company that mattered. At a higher level, we had articulated and then led the future direction of the industry—a future in which business and technology would not be separate tracks but intertwined; and a future in which the industry—in a remarkable about-face—would be driven by services, rather than hardware or software products. We'd coined the term "e-business" and played a leadership role in defining what was going to matter—and what wasn't—in a networked world. The IBM workforce increased in size by about 100,000 people. Our stock split twice and increased in value by 800 percent. Our technical community ushered in a new golden age of IBMresearch and development and earned more United States patent awards than any company for nine years running. We even connected supercomputing with pop culture when a machine named Deep Blue defeated chess grandmaster Garry Kasparov. In short, once we got back on our feet, shook off the stigma of squandering a seemingly unassailable leadership position, and decided that just maybe our best days were yet to come, the IBM team responded magnificently—just as it had through even the darkest days early in the transformation. My intent is to provide a summary description of the most important strategic changes. Some can be declared successes; others remain works in progress. In each case, what I've included are the moves that were either such distinct departures from IBM's prior direction that they can be considered "bet the company" changes; or those that were so diametrically opposed to the existing culture that they were at great risk of being brought down by internal resistance. Also, I'll point out that I leave my successor much unfinished business. A number of our strategies are not yet fully deployed; others remain to be defined. More important, the cultural transformation of IBM's formerly successful and deeply entrenched culture—our single most critical and difficult task—will require constant reinforcement or the company could yet again succumb to the arrogance of success.

Intro

I joined the management consulting firm of McKinsey & Company in New York City in June 1965. My first assignment was to conduct an executive compensation study for the Socony Mobil Oil Co. I'll never forget my first day on that project. I knew nothing about executive compensation, and absolutely nothing about the oil industry. Thank goodness I was the low man on the totem pole, but in the McKinsey world one was expected to get up to speed in a hurry. Within days I was out meeting with senior executives decades older than I was. Over the next nine years I advanced to the level of senior partner at McKinsey. I was responsible for its finance practice and was a member of its senior leadership committee. I was the partner in charge of three major clients, two of which were financial services companies. The most important thing I learned at McKinsey was the detailed process of understanding the underpinnings of a company. McKinsey was obsessive about deep analysis of a company's marketplace, its competitive position, and its strategic direction. When I reached my early thirties, it became clear to me that I didn't want to stay in consulting as a career. Although I enjoyed the intellectual challenge, the fast pace, and the interaction with top-ranking senior people, I found myself increasingly frustrated playing the role of an advisor to the decision makers. I remember saying to myself, "I no longer want to be the person who walks into the room and presents a report to a person sitting at the other end of the table; I want to be the person sitting in that chair—the one who makes the decisions and carries out the actions." Like many other successful McKinsey partners, I had gotten a number of offers to join my clients over the years, but none of the proposals seemed attractive enough to make me want to leave. In 1977, however, I received and accepted an offer from American Express, which was my largest client at that time, to join it as the head of its Travel Related Services Group (basically, the American Express Card, Traveler's Checks, and Travel Office businesses). I stayed at American Express for eleven years, and it was a time of great fun and personal satisfaction. Our team grew Travel Related Services earnings at a compounded rate of 17 percent over a decade; expanded the number of cards issued from 8 million to nearly 31 million, and built whole new businesses around the Corporate Card, merchandise sales, and credit card processing industries. It was also at American Express that I developed a sense of the strategic value of information technology. Think about what the American Express Card represents. It is a gigantic e-business, although we never thought about it in those terms in the 1970s. Millions of people travel the world with a sliver of plastic, charging goods and services in many countries. Every month they receive a single bill listing those transactions, all translated into a single currency. This was also when I first discovered the "old IBM." I'll never forget the day one of my division managers called and said that he had recently installed an Amdahl computer in a large data center that had historically been 100-percent IBM equipped. He said that his IBM representative had arrived that morning and told him that IBM was withdrawing all support for his massive data processing center as a result of the Amdahl decision. I was flabbergasted. Given that American Express was at that time one of IBM's largest customers, I could not believe that a vendor had reacted with this degree of arrogance. I placed a call immediately to the office of the chief executive of IBM to ask if he knew about and condoned this behavior. I was unable to reach him and was shunted off to an AA (administrative assistant) who took my message and said he would pass it on. Cooler (or, should I say, smarter) heads prevailed at IBM and the incident passed. Nevertheless, it did not go out of my memory. I left American Express on April 1, 1989, to accept what some in the media called at the time the "beauty contest" of the decade. RJR Nabisco, a huge packaged-goods company that had been formed a few years earlier through the merger of Nabisco and R. J. Reynolds Tobacco Company, was rated the ninth-most-admired company in America when the headhunters called me. The organization had just gone through one of the wildest adventures in modern American business history: an extraordinary bidding contest among various investment firms to take the company private through a leveraged buyout (LBO). The winning bid was made by the venture capital firm of Kohlberg Kravis Roberts & Co. (KKR). Soon afterward, KKR sought me out to become chief executive of the now private and heavily indebted company. For the next four years I became immersed in a whole new set of challenges. While I understood well from my American Express days the ongoing demands of a consumer products company, I really spent most of my time at RJR Nabisco managing an extraordinarily complex and overburdened balance sheet. The LBO bubble of the 1980s burst shortly after the RJR Nabisco transaction, sending a tidal wave of trouble over this deal. In hindsight, KKR paid too much for the company, and the next four years became a race to refinance the balance sheet, while trying to keep some semblance of order in the many individual businesses of the company. It was a wild scene. We had to sell $11 billion worth of assets in the first twelve months. We had debt that paid interest rates as high as 21 percent a year. We had lender and creditor committees galore and, of course, the cleanup from the profligate spending of the prior management. (For example, when I arrived we had thirty-two professional athletes on our payroll—all part of "Team Nabisco.") That was a difficult time for me. I love building businesses, not disassembling them. However, we all have an opportunity to learn in everything we do. I came away from this experience with a profound appreciation of the importance of cash in corporate performance—"free cash flow" as the single most important measure of corporate soundness and performance. I also came away with a greater sense of the relationship between management and owners. I had experienced this at McKinsey, which was a private company owned by its partners. The importance of managers being aligned with shareholders—not through risk-free instruments like stock options, but through the process of putting their own money on the line through direct ownership of the company—became a critical part of the management philosophy I brought to IBM. By 1992 it was clear to all that while RJR Nabisco itself was doing quite well, the LBO was not going to produce the financial returns the owners had expected. It was clear to me that KKR was headed for the exit, so it made sense for me to do the same. This book, which starts on the next page, picks up my story from there.

out to the field - 4

It was crucial that I get out into the field. I didn't want my understanding of the company to be based on the impressions of headquarters employees. Moreover, the local IBM princes and barons were eager to view the new leader. So the day after the annual meeting, I flew to France to meet with the mightiest of all nobles—IBM Europe, Middle East, and Africa (we call it "EMEA"). I visited France, Italy, Germany, and the United Kingdom, all in one week. It was dawn-to-midnight business reviews with senior executives, employee "town hall" meetings, and customer visits. IBM EMEA was a giant organization operating in 44 countries with more than 90,000 employees. Revenue had peaked at $27 billion in 1990 and had declined since. Gross profit margin on hardware had dropped from 56 percent in 1990 to 38 percent in 1992. Very important was the fact that in the face of this huge decline in gross profits, total expenses had dropped only $700 million. Pretax profit margin had declined from 18 percent in 1990 to 6 percent in 1992. Wherever I went, the business message was the same: rapidly declining mainframe sales, much higher prices than those of our competitors, a lack of participation in the rapidly growing client/server (PC-centric) segment, and an alarming decline in the company's image. One of the most disturbing statements in my advance reading material was: "We estimate our net cash change at negative $800 million in 1993. We expect to be self-funding but will not be able for some time to pay dividends to the corporation." While I learned a lot on this trip—the meetings with customers were particularly useful—perhaps the most important messages were internal. It was clear that at all levels of the organization there was fear, uncertainty, and an extraordinary preoccupation with internal processes as the cause of our problems and, therefore, a belief that tinkering with the processes would provide the solutions we needed. There were long discussions of transfer pricing between units, alternative divisions of authority, and other intramural matters. When EMEA executives summarized their action program for the company, number one was: "Use country as prime point of optimization." I returned home with a healthy appreciation of what I had been warned to expect: powerful geographic fiefdoms with duplicate infrastructure in each country. (Of the 90,000 EMEA employees, 23,000 were in support functions!) I also came away with an understanding that these were enormously talented people, a team as deeply committed and competent as I had ever seen in any organization. I reached this conclusion repeatedly over the next few months. On the flight home I asked myself: "How could such truly talented people allow themselves to get into such a morass?" As Paul Rizzo had said in our secret meeting in Washington, D.C., IBM's sustainability, at least in the short term, depended heavily on the mainframe. More than 90 percent of the company's profits came from these large "servers" and the software that ran on them. It didn't take a Harvard MBA or a McKinsey consultant to understand that the fate of the mainframe was the fate of IBM, and, at the time, both were sinking like stones. One of the first meetings I asked for was a briefing on the state of this business. I remember at least two things about that first meeting with Nick Donofrio, who was then running the System/390 business. One is that I drove to his office in Somers, New York, about fifteen miles north of Armonk, and experienced a repeat of my first day on the job. Once again, I found myself lacking a badge to open the doors at this complex, which housed the staffs of all of IBM's major product groups, and nobody there knew who I was. I finally persuaded some kind soul to let me in, found Nick, and we got started. Sort of. At that time, the standard format of any important IBM meeting was a presentation using overhead projectors and graphics on transparencies that IBMers called—and no one remembers why—"foils." Nick was on his second foil when I stepped to the table and, as politely as I could in front of his team, switched off the projector. After a long moment of awkward silence, I simply said, "Let's just talk about your business." I mention this episode because it had an unintended, but terribly powerful ripple effect. By that afternoon an e-mail about my hitting the Off button on the overhead projector was crisscrossing the world. Talk about consternation! It was as if the President of the United States had banned the use of English at White House meetings. By the way, in the telling of that story, I'm in no way suggesting that Nick didn't know his business In a subsequent meeting in the conference room near my office in Armonk, the mainframe team documented a rapid decline in sales and, more important, a precipitous drop in market share in the last fifteen months. I asked why we were losing so much share, and the answer was, "Hitachi, Fujitsu, and Amdahl are pricing 30 to 40 percent below our price." I asked the obvious: "Why don't we lower our prices so they don't keep beating us like a drum?" The answer: "We would lose substantial revenues and profits at a time when we need profits badly." I had hoped to follow the advice of all the management gurus and try to avoid making major decisions in the first ninety days, but that only happens in guru world. The company was hemorrhaging, and at the heart of it was the System/390 mainframe. But almost immediately after joining the company, I had to do something. It became clear to me at that point that the company, either consciously or unconsciously, was milking the S/390 and that the business was on a path to die. I told the team that, effective immediately, the milking strategy was over and instructed them to get back to me with an aggressive price reduction plan that we could announce two weeks later at a major customer conference. The financial people gulped hard. There was no doubt that a new CEO could take the alternative strategy: Keep S/390 prices high for a number of years, since it wasn't easy for customers to shift to competitive products in the near future. The revenue—hundreds of millions of dollars—would have been a powerful short-term underpinning of a restructuring of the company. But it would also have been painful for customers and contrary to what they were pleading with us to do, which was to fix the problem rather than walk away from it. Over the longer term, we would have destroyed the company's greatest asset—and perhaps the company itself. So we made a bet on a dramatic price reduction on the product that produced virtually all of IBM's profit. We made another important decision that day—or, better said, I reaffirmed an important decision that had been made a number of months before I'd arrived. The technical team in the 390 division had staked out a bold move to a totally different technical architecture for the System/390: to move from what was known as a bipolar to CMOS (pronounced "C-moss") technology. If this enormously complex project could be pulled off, it would permit substantial price reductions in the S/390 without commensurate loss in gross profit, thus improving dramatically the competitiveness of the S/390 versus alternative products. If the project failed, the 390 was dead. But it didn't fail! And the technical wizards from labs in Europe and the United States who pulled it off deserve a place among the heroes of the new IBM. I have always been thankful (and lucky) that some insightful people had made that decision before I'd arrived. My job was simply to reaffirm it and to protect the billion dollars we would spend on it over the next four years. - I am convinced that had we not made the decision to go with CMOS, we'd have been out of the mainframe business by 1997. In fact, that point has been proven more or less by what happened to our principal competitor at the time, Hitachi. It continued development of bigger and bigger bipolar systems, but that technology eventually ran out of gas, and Hitachi is no longer in this business. The CMOS performance curve was staggering on paper, and it didn't disappoint us. We're building bigger, more powerful systems today than anyone ever dreamed about with bipolar technology. So if you want to think about the return on the $1 billion investment we made back in the early 1990s, I think one fair measure is high-end server revenue from 1997 forward—$19 billion through the end of 2001. On Sunday, May 16, I convened a two-day internal meeting on corporate strategy at a conference center in Chantilly, Virginia. There were twenty-six senior IBM executives present. Dress was casual, but the presentations were both formal and formidable. I was totally exhausted at the end. It was truly like drinking from a fire hose. The technical jargon, the abbreviations, and the arcane terminology were by themselves enough to wear anyone down. But what was really draining was the recognition that while the people in the room were extremely bright, very committed, and, at times, quite convinced of what needed to be done, there was little true strategic underpinning for the strategies discussed. Not once was the question of customer segmentation raised. Rarely did we compare our offerings to those of our competitors. There was no integration across the various topics that allowed the group to pull together a total IBM view. I was truly confused, and that may have been the real low point of my first year at IBM. I walked out of that room with an awful feeling in the pit of my stomach that Murphy and Burke had been wrong—IBM needed a technological wizard to figure out all this stuff! I didn't have much time to feel sorry for myself because that evening we began what may have been the most important meeting of my entire IBM career: the IBM Customer Forum.

the courtship

On December 14, 1992, I had just returned from one of those always well-intentioned but rarely stimulating charity dinners that are part of a New York City CEO's life, including mine as CEO of RJR Nabisco. I had not been in my Fifth Avenue apartment more than five minutes when my phone rang with a call from the concierge desk downstairs. It was nearly 10 P.M. The concierge said, "Mr. Burke wants to see you as soon as possible this evening." I didn't know Jim Burke well, but I greatly admired his leadership at Johnson & Johnson, as well as at Partnership for a Drug-Free America. His handling of the Tylenol poisoning crisis years earlier had made him a business legend. I had no idea why he wanted to see me so urgently. When I called, he said he would come right down. When he arrived he got straight to the point: "I've heard that you may go back to American Express as CEO, and I don't want you to do that because I may have a much bigger challenge for you." The reference to American Express was probably prompted by rumors that I was going to return to the company where I had worked for eleven years. In fact, in mid-November 1992, three members of the American Express board had met secretly with me at the Sky Club in New York City to ask that I come back. It's hard to say if I was surprised—Wall Street and the media were humming with speculation that then CEO Jim Robinson was under board pressure to step down. However, I told the three directors politely that I had no interest in returning to American Express. I had loved my tenure there, but I was not going back to fix mistakes I had fought so hard to avoid. (Robinson left two months later.) I told Burke I wasn't returning to American Express. He told me that the top position at IBM might soon be open and he wanted me to consider taking the job. Needless to say, I was very surprised. While it was widely known and reported in the media that IBM was having serious problems, there had been no public signs of an impending change in CEOs. I told Burke that, given my lack of technical background, I couldn't conceive of running IBM. He said, "I'm glad you're not going back to American Express. And please, keep an open mind on IBM." That was it. He went back upstairs, and I went to bed thinking about our conversation. On January 26, 1993, IBM announced that John Akers (CEO and chairman of IBM) had decided to retire and that a search committee had been formed to consider outside and internal candidates. The committee was headed by Jim Burke. It didn't take long for him to call. I gave Jim the same answer in January as I had in December: I wasn't qualified and I wasn't interested. He urged me, again: "Keep an open mind." He and his committee then embarked on a rather public sweep of the top CEOs in America. Names like Jack Welch of General Electric, Larry Bossidy of Allied Signal, George Fisher of Motorola, and even Bill Gates of Microsoft surfaced fairly quickly in the press. So did the names of several IBM executives. The search committee also conducted a series of meetings with the heads of many technology companies, presumably seeking advice on who should lead their number one competitor! (Scott McNealy, CEO of Sun Microsystems, candidly told one reporter that IBM should hire "someone lousy.") In what was believed to be a first-of-its-kind transaction, the search committee hired two recruiting firms in order to get the services of the two leading recruiters—Tom Neff of Spencer Stuart Management Consultants N.V., and Gerry Roche of Heidrick & Struggles International, Inc. In February I met with Burke and his fellow search committee member, Tom Murphy, then CEO of Cap Cities/ABC. Jim made an emphatic, even passionate pitch that the board was not looking for a technologist, but rather a broad-based leader and change agent. In fact, Burke's message was consistent throughout the whole process. At the time the search committee was established, he said, "The committee members and I are totally open-minded about who the new person will be and where he or she will come from. What is critically important is the person must be a proven, effective leader—one who is skilled at generating and managing change." Once again, I told Burke and Murphy that I really did not feel qualified for the position and that I did not want to proceed any further with the process. The discussion ended amicably and they went off, I presumed, to continue the wide sweep they were carrying out, simultaneously, with multiple candidates.

the announcement

Over the next ten days we worked out an employment contract. Doing so was not easy, for several reasons. The big one was the fact that RJR Nabisco was an LBO, and in an LBO the CEO is expected to align himself or herself with the owners and have a large equity position in his or her company. Consequently, at RJR Nabisco I owned 2.4 million shares and had options for 2.6 million more. In IBM, stock ownership was a de minimus part of executive compensation. The IBM board and human resources (HR) bureaucracy apparently did not share the view that managers should have a significant stake in the company. This was my first taste of the extraordinary insularity of IBM. Somehow we worked everything out, and my next task was to tell KKR and the RJR board of my decision. That weekend, March 20-21, was the annual Nabisco Dinah Shore Golf Tournament. Nabisco invited all of its major customers to the event, and it was important for me to attend. I also knew that Henry Kravis, one of KKR's senior partners, would be there, and I decided that I would discuss my decision with him then. My name had already surfaced in the media as a candidate for the IBM job, and I knew that KKR and the RJR board were nervous. In meetings with KKR over the preceding weeks, there was a noticeable tension in the air. So, on Sunday, March 21, in my hotel room at the Dinah Shore tournament, I told Henry Kravis I was going to accept the IBM job. He was not happy, but true to form, he was polite and calm. He tried to talk me out of my decision, but I was firm that there was no going back. While we never discussed it, what was implicit in that conversation was the knowledge we shared that both of us were working on our exits from RJR. I just happened to finish sooner. (KKR started its exit a year later.) IBM made the announcement on Friday morning (even though the cover story of Business Week, published that morning, already stated I had taken the job). A press conference began at 9:30 A.M. at the Hilton hotel in New York City. John Akers, Jim Burke, and I spoke. Burke wanted to explain the search process that had seemed so public and disjointed for three months. He made these comments during his opening statement: "There was only a handful of people in the world who were capable of handling this job. I want you to know that Lou Gerstner was on that original list, but we then did a worldwide search of well over one hundred twenty-five names, which we processed and kept reducing...and pretty well got back to the list that we started with. We gave those people on the list code names in an attempt to keep it out of the press—a vain attempt, I might add. You might be interested that Lou Gerstner was the first person I talked to on that list and consequently had the code name 'Able.' I knew my life was changing forever when I walked to the podium and three dozen photographers surged forward, and I had to conduct an entire press conference through nonstop, blinding camera flashes. As visible as American Express and RJR had been, this was something altogether different. I was now a public figure. This wasn't just any company—even any very big company. IBMwas an institution—a global one—and its every move was scrutinized by the outside world. I was taking on a daunting challenge, and I'd be doing it in a fishbowl. My own remarks were brief. I was just trying to get through the ordeal without dealing with a lot of specific questions about why I felt I was qualified for the job and what I was going to do to fix IBM. But those were exactly the questions I got in a lengthy Q&A following the formal remarks. Needless to say, I provided little nourishment for the reporters. I simply had no idea what I would find when I actually arrived at IBM.

Sell Unproductive Assets to Raise Cash

The fourth action program that we kicked off that summer represented a scramble to sell unproductive assets and raise cash. Only a handful of people understand how precariously close IBM came to running out of cash in 1993. Whether we would have had to file for bankruptcy, I can't say. There were certainly lots of assets that could be sold to make the company solvent again. The issue was: Could that be done before we turned down that horrible spiral that companies enter when their cash flow shrinks and their creditors are no longer willing to stand behind them? In July we announced that we would cut our annual dividend to shareholders from $2.16 to $1. That fall, Jerry York and his team went to work to sell any asset that was not essential to the company. We sold much of the corporate airplane fleet. We sold the corporate headquarters in New York City. We had massive investments in expensive training centers where we housed and fed tens of thousands of people a year. In 1993 we had four such private facilities within an hour's drive of the Armonk headquarters, one of which, a former estate of the Guggenheim family on the Gold Coast of Long Island, was used almost exclusively by the IBM human resources organization. The program of selling off unproductive assets continued for many years. The need to raise cash became less important as we moved into 1995 and 1996. However, as the years went by, we continued to streamline the company for a different reason: focus. (I will return to this subject later.) The largest sale we made in the first year was IBM's Federal Systems Company, which did major projects primarily for the United States government. We took advantage of the fact that the United States defense industry was consolidating rapidly at that time and there were buyers who would pay top dollar to increase their concentration. The unit had an illustrious history of important technological breakthroughs for various national security and space programs. However, it was also a perpetual low-margin business because we never figured out how to fit it into the overall high-expense model of the commercial side of the business. Loral Corporation bought it in January 1994 for $1.5 billion.

Stop the Bleeding and Hold the Vision - 6

The media, typically, were losing patience (not that I've ever felt the media had any particularly noteworthy insights into what was going on in IBM, but given the fragility of the company at that time, their stories, right or wrong, could have had a devastating impact on customer attitudes). IBM stock, down 6% since Gerstner took over, "has done nothing because he's done nothing," says computer analyst David Wu at S. G. Warburg. Although I thought I had already done a lot, it was clearly time to make some major decisions and go public with them. And after all the customer and employee and industry meetings, as well as weekend and air travel reflection, I was indeed ready to make four critical decisions: Keep the company together. Change our fundamental economic model. Reengineer how we did business. Sell underproductive assets in order to raise cash. When the computer industry first appeared on the world's stage, its model was to deliver to customers a total, integrated package. When a company bought a computer, it came with all the basic technologies, like microprocessors and storage, incorporated into a system; all the software loaded onto the hardware; all the services to install and maintain the system were bundled into the pricing. The customer basically purchased a total system and had it installed for a single price. This was the model created by IBM, and over time, only a handful of computer competitors, all fully integrated, emerged in the United States (often described as the BUNCH—Burroughs, Univac, NCR, Control Data, and Honeywell). The same model emerged in Japan and, to a lesser extent, in Europe. In the mid-1980s a new model started to appear. It argued that vertical integration was no longer the way to go. The new breed of successful information technology companies would provide a narrow, horizontal slice of the total package. So companies that sold only databases began to emerge, as well as companies that sold only operating systems, that sold only storage devices, and so on. Suddenly the industry went from a handful of competitors to thousands and then tens of thousands, many of which sold a single, tiny piece of a computer solution. It was in this new environment that IBM faltered, and so it was logical for many of the visionaries and pundits, both inside and outside the company, to argue that the solution lay in splitting IBM into individual segments. This conclusion, however, appeared to me to be a knee-jerk reaction to what new competitors were doing without understanding what created fragmentation in the industry. Two things really drove the customer to support this new, fragmented supplier environment: Customers wanted to break IBM's grip on the economics of the industry—to rip apart IBM's pricing umbrella, which allowed it to bundle prices and achieve significantly high margins. The customer was increasingly interested in delivering computing power to individual employees (the term was "distributed computing," in contrast to the mainframe's "centralized computing"). IBM was slow, very slow, in delivering distributed computing, and many small companies moved in to fill the gap. These companies were in no position to deliver an entire integrated solution, so they offered add-ons to the basic IBM system and built around IBM's central processing hub. This is clearly what Microsoft and Intel did when IBM reluctantly moved into the PC business. So it really wasn't that the customer desired a whole bunch of fragmented suppliers. The broad objective was to bring more competition into the marketplace and to seek suppliers for a new model of computing. - And it worked. By the early 1990s there were tens of thousands of companies in the computer industry, many of which lived for a few months or years, then disappeared. But the impact of all this dynamism was lower prices and more choices (with the notable exception of the PC industry, where Microsoft re-created the IBM choke hold, only this time around it was in the desktop operating environment rather than in the mainframe computer). While there were good consequences to this fundamental reshaping of the computer industry, there was also one very undesirable outcome. The customer now had to be the integrator of the technology into a usable solution to meet his or her business requirements. Before, there was a general contractor called IBM or Burroughs or Honeywell. Now, in the new industry structure, the burden was on the customer to make everything work together. Why? Because at the end of the day, in every industry there's an integrator. Sure, there are supply chains, and there are enterprises at various points in the chain that offer only one piece of a finished product: steelmakers in the auto industry; component makers in consumer electronics; or providers of a marketing or tax application in financial services. But before the components reach the consumer, somebody has to sit at the end of the line and bring it all together in a way that creates value. In effect, he or she takes responsibility for translating the pieces into value. I believed that if IBM was uniquely positioned to do or to be anything, it was to be that company. Another myth that was playing out at the time was that the information technology (IT) industry was going to continue to evolve—or devolve—toward totally distributed computing. Everything was going to get more local, more self-contained, smaller and cheaper until the point at which all the information in the world would be running on somebody's wristwatch. A lot of people had bought into the value of information democratization extended to its extreme, and they accepted the industry's promise that all the piece parts would work together, or, in the industry's term, "interoperate." Now, I must tell you, I am not sure that in 1993 I or anyone else would have started out to create an IBM. But, given IBM's scale and broad-based capabilities, and the trajectories of the information technology industry, it would have been insane to destroy its unique competitive advantage and turn IBM into a group of individual component suppliers—more minnows in an ocean. So keeping IBM together was the first strategic decision, and, I believe, the most important decision I ever made—not just at IBM, but in my entire business career. I didn't know then exactly how we were going to deliver on the potential of that unified enterprise, but I knew that if IBM could serve as the foremost integrator of technologies, we'd be delivering extraordinary value. - They also made it clear that our ability to execute against an integrator strategy was nearly bankrupt and that much had to be done before IBM could provide a kind of value that we were not providing at the time—but which they believed only IBM had a shot at delivering: genuine problem solving, the ability to apply complex technologies to solve business challenges, and integration. - As a result, we threw out the investment bankers who were arranging IPOs of all the pieces of the enterprise. We threw out the accountants who were creating official financial statements required in order to sell off the individual components. We threw out the naming consultants who had decided that the printer division should be called "Pennant" and the storage division "AdStar." - We stopped all the internal activities that were creating separate business processes and systems for each of these units, all of which were enormous drains of energy and money. For example, even in the midst of financial chaos, we had managed to hire more than seventy different advertising agencies in the United States alone (more on this later). Human resources people were willy-nilly changing benefits programs so that if an employee left one IBM business unit for another, it was like entering another country, with different language, currency, and customs. I began telling customers and employees that IBM would remain one unified enterprise. I remember that the response from our executive team was mixed—great joy from those who saw the company as being saved, and bitter disappointment from those who saw a breaking apart as their personal lifeboat to get off the Titanic.

Early Priorities

The next two weeks were filled with meetings with my direct reports, interviews with candidates for the CFO and HR jobs, and visits to key IBM sites. One of the most important meetings occurred on my second day. I had asked my brother Dick to come by and talk to me about the company. Dick had been a fast-rising star at IBM for many years, having joined the company right out of college. He had served in Europe and, at one point, had headed up the powerful Asia-Pacific region. My guess is that he had been on track to become one of the top executives—a member of the elite and revered Management Committee—but he was tragically cut down by undetected Lyme disease at the height of his career. He had gone on medical leave about six months before John Akers had left, but several executives had asked him to come back and do some consulting for the company. His most important task was working with Nick Donofrio, then head of the Large-Scale Systems Division, to figure out what to do with the mainframe. Nevertheless, it had to be a poignant moment as he came into the CEO's office at IBM and saw me sitting where, quite realistically, he might have sat had health problems not derailed his career. He came extremely well prepared. In fact, his was the most insightful review anyone had given me during those early days. In particular, he argued against the premise that the mainframe was dead and against a seemingly hysterical preoccupation in the company to allocate all its resources to winning the PC war. I quote directly from the papers he gave me: "We have allowed the info industry to endorse the paradigm that the mainframe is expensive, complex, not responsive, and workstation solutions are cheap, simple to operate, and responsive to business needs. While there is no truth to this paradigm, we have allowed competitors, opinion leaders, and our customers to exaggerate the differences. The result is a dramatic falloff in S/390 (mainframe) sales, increased credibility for Amdahl and Hitachi alternatives, loss of credibility for CIOs (Chief Information Officers) at major corporations, and loss of confidence that IBM had the customers' best interests in mind in its sales organization. "We should cut the price of hardware ASAP, simplify software pricing, focus development on simplification, implement a hard-hitting communication program to reposition the mainframe and workstations, and underscore that the mainframe is an important part of the CIO's information portfolio." As I think back on the three or four things that really made a difference in the turnaround of IBM, one of them was repositioning the mainframe. And nobody pointed it out sooner or more clearly than my brother Dick. On April 13 I interviewed Jerry York at IBM's office in New York City. Jerry was then Chief Financial Officer at Chrysler Corporation and was one of two candidates I was seeing that week for the CFO job. It was a truly memorable interview. Jerry arrived in a starched white shirt and a blue suit, everything crisp and perfect—West Point style. He was not coy and did not pull any punches. He basically said he wanted the job and then proceeded to outline a series of things that he thought needed to be done as soon as possible. I was impressed by his frankness, his lack of guile, and his candor, as well as his analytical capabilities. It was clear to me that he was tough—very tough—and just what I needed to get at the cost side of IBM. I spoke to another candidate later that week, but I decided Jerry was the right person. He joined us on May 10. I also saw Gerry Czarnecki, a candidate for the HR job. Gerry was an operations executive at a bank but had been an HRprofessional years before. Over the next couple of weeks we met several times, both by phone and in person. Although I liked Gerry's energy and his directness, I wasn't certain he was prepared to go back into the HR function. He said, "Probably not anywhere else, but to be part of the turn-around of IBM, I'm prepared to do it." That turned out to be one of the few hirings that didn't work out as planned during my early years at IBM. It soon became clear to me that it was proving very hard for Gerry to go back and lead the professional HR community. Within four months he appeared to be acting and sounding more like a vice CEO. It wasn't that Gerry's ideas were wrong—in fact, he was a major proponent of substantial cultural change. However, the organization wasn't going to accept from Gerry what it would accept from me. He burned his bridges with his colleagues very soon and he left IBM within a year of his hiring. Of course, my top priority during those first few weeks was meeting privately with each of the senior executives. A few of them had prepared the ten-page briefing I had requested; most of them offered a more ad hoc analysis of their businesses. In all the meetings over those several weeks, I was sizing up my team, trying to understand the problems they faced and how they were dealing with them, how clearly they thought, how well they executed, and what their leadership potential really was. The person I relied on most during those early days was Paul Rizzo. As I said earlier, he had been called back from retirement by the board to help John Akers. Paul had been a senior executive at IBM for twenty-two years. After retiring, he became dean of the Business School at the University of North Carolina and was building a new house in that state. The last thing he needed was to come back to IBM, but he did because he loved the company and he didn't want to see it die. When I arrived, Paul was responsible for the program of federalism—breaking up the company into individual, autonomous units. Not that Paul created the strategy, but in the absence of a CFO, he was basically overseeing the finance function for the board. He was also in charge of watching all the investment bankers who were scrambling over most parts of the company, dollar signs in their eyes as they planted their flags into each business unit. It reminded me of a gold rush. Each one saw an initial public offering of stock (IPO) for the unit or units that he or she advised. We were spending tens of millions of dollars on accountants to create the bookkeeping required for IPOs because IBM's financial system did not support stand-alone units. Paul was also deeply involved in the financing activities that were under way to raise additional capital. For me, asking Paul to stay on was an easy decision, and I'm grateful he did. Over the next year he was a tower of strength, a wise mentor, and an insightful partner in evaluating strategy and people—another important hero of the IBM turnaround. A special moment occurred during those first weeks of April. I walked out of my home one morning at my usual early hour. However, when I opened my car door, I suddenly realized there was someone sitting in the back seat. It was Thomas J. Watson, Jr., former IBM CEO and the son of IBM's founder. Tom literally lived across the street and had walked up my driveway to surprise me and ride to work with me. He was 79 years old, and he had retired as CEO of IBM in 1971. He was animated and, perhaps better stated, agitated. He said he was angry about what had happened to "my company." He said I needed to shake it up "from top to bottom" and to take whatever steps were necessary to get it back on track. He offered support, urged me to move quickly, reflected on his own career, and, in particular, the need he had seen over and over again to take bold action. At the end of our ride together, I had the feeling he wished he could take on the assignment himself! On April 15 I made my first official visit to a nonheadquarters site. I had chosen it carefully: the company's research laboratory in Yorktown Heights, New York. If there was a soul of IBM, this lab was it. Appropriately named the T. J. Watson Research Center, it contained the intellectual fervor that had led IBM over decades to invent most of the important developments that had created the computer industry. It was my first "public" appearance inside IBM, and it was important because I knew this was my greatest immediate vulnerability. Would the researchers reject me as an unacceptable leader? Some in the company were calling me the "Cookie Monster" because of my previous job at Nabisco. - I gave what soon became my stump speech on focus, speed, customers, teamwork, and getting all the pain behind us. I talked about how proud I was to be at IBM. I underscored the importance of research to IBM's future, but I said we probably needed to figure out ways to get our customers and our researchers closer together so that more of IBM's great foundry of innovation would be aimed at helping people solve real, and pressing, problems.

The decision

The turning point in my thinking occurred over Presidents' Day weekend in February 1993. I was at my house in Florida, where I love to walk the beach, clearing and settling my mind. It's very therapeutic for me. During an hour's walk each day that weekend, I realized that I had to think differently about the IBM situation. What prompted my change of heart was what was happening at RJR Nabisco. As I noted in the Introduction, it had become clear that KKR had given up on making its leveraged buyout work as planned. There were two reasons for this. First, as discussed in Bryan Burroughs and John Helyar's book Barbarians at the Gate, in the fury and madness of the bidding process in 1988, KKR overpaid for RJR Nabisco. This meant that despite achieving all of the restructuring objectives of the LBO, there simply wasn't enough operating leverage to produce the projected returns. Second, the operating returns from the tobacco business were under pressure as a result of a price war started by Philip Morris soon after the RJR Nabisco buy out. Philip Morris was simply following the advice of Ray Kroc, founder of McDonald's, who'd once said, "When you see your competitor drowning, grab a fire hose and put it in his mouth." KKR obviously was working on an exit strategy. As I walked the beach that February, I decided I should be doing the same thing. And so, as much as anything else, the view that I would not be at RJR Nabisco too much longer was what got me thinking more about the IBM proposal. I called Vernon Jordan, the Washington attorney who was a longtime friend as well as a director of RJR Nabisco, and asked his advice. He confirmed my feeling that KKR was ready to move out of RJR Nabisco and that this phase of the company's tumultuous life was coming to an end. Also, it was clear that Jim Burke had already talked with Vernon, because Vernon knew I was on the IBMlist. His advice was, as usual, to the point. He said, "IBM is the job you have been in training for since you left Harvard Business School. Go for it!" I suppose there was a second reason I changed my mind. I have always been drawn to a challenge. The IBM proposition was daunting and almost frightening, but it was also intriguing. The same was true of RJR Nabisco when I'd joined it in 1989. I think it is fair to say that from February 15 on, I was prepared to consider taking on IBM and its problems. Vernon got word to Jim Burke that I might be in play after all. I began to organize my questions and concerns for Burke and his committee. When Burke called later that week, I told him that I would take a look at the IBM job. I told him I would need a lot more information, particularly about the company's short- and intermediate-term prospects. The dire predictions of the media and the pundits had me worried. I had learned a hard lesson at RJR Nabisco: A company facing too many challenges can run out of cash very quickly. I told Burke that I wanted to meet with Paul Rizzo. Paul had been an executive at IBM in the 1980s. I had met him on several occasions and admired him greatly. He had retired from IBM in 1987 but had been called back by the IBM Board of Directors in December 1992 to work with John Akers to stem the decline of the company. I told Burke during that February phone call that I wanted to go over the budget and plans for 1993 and 1994 with Rizzo. The discussion that ensued was very sobering. IBM's sales and profits were declining at an alarming rate. More important, its cash position was getting scary. We went over each product line. A lot of the information was difficult to evaluate. However, Paul clearly underscored the make-or-break issue for the company: He said that mainframe revenue had dropped from $13 billion in 1990 to a projection of less than $7 billion in 1993, and if it did not level off in the next year or so, all would be lost. He also confirmed that the reports in the press about IBM pursuing a strategy of breaking up the company into independent operating units was true. I thanked Paul for his honesty and insight and promised to treat the material with total confidentiality. (in meeting w/ Paul at his hotel room) When he left the room, I was convinced that, on the basis of those documents, the odds were no better than one in five that IBM could be saved and that I should never take the position. A consumer products company has long-term brands that go on forever. However, that was clearly not the case in a technology company in the 1990s. There, a product could be born, rise, succeed wildly, crash, disappear, and be forgotten all within a few years. When I woke up the next morning, I was convinced IBM was not in my future. The company was slipping rapidly, and whether that decline could be arrested in time—by anyone—was at issue. Still, Jim Burke would not give up. His persistence may have had more to do with a growing desperation to get anyone to take this job than it did with a particular conviction that I was the right candidate. I wondered at this point if he was just trying to keep a warm body in play. Two weeks later I was back in Florida for a brief vacation. Burke and Murphy insisted on a meeting to pursue the issue one last time. We met in a new house that headhunter Gerry Roche and his wife had just built in a community near my own. Roche only played the role of host. In his new living room, it was Burke, Murphy, and me alone. I remember that it was a long afternoon. Burke introduced the most novel recruitment argument I have ever heard: "You owe it to America to take the job." He said IBM was such a national treasure that it was my obligation to fix it. I responded that what he said might be true only if I felt confident I could do it. However, I remained convinced the job was not doable—at least not by me. Tom Murphy, who tended to let Burke do most of the talking in our previous meetings, spoke up more frequently this time. Murph, as he is called by his friends, was quite persuasive in arguing that my track record as a change agent (his term) was exactly what IBM needed and that he believed there was a reasonable chance that, with the right leadership, the company could be saved. He reiterated what I'd heard from Burke, and even Paul Rizzo. The company didn't lack for smart, talented people. Its problems weren't fundamentally technical in nature. It had file drawers full of winning strategies. Yet, the company was frozen in place. What it needed was someone to grab hold of it and shake it back into action. The point Murphy came back to again and again was that the challenge for the next leader would begin with driving the kind of strategic and cultural change that had characterized a lot of what I'd done at American Express and RJR. At the end of that long afternoon, I was prepared to make the most important career decision of my life. I said yes. In retrospect, it's almost hard for me to remember why. I suppose it was some of Jim Burke's patriotism and some of Tom Murphy's arguments playing to my gluttony for world-class challenges. At any rate, we shook hands and agreed to work out a financial package and announcement. In hindsight, it's interesting that both Burke and Murphy were operating under the assumption provided by the management of IBM that a strategy of breaking up the company into independent units was the right one to pursue. What would they have said if they realized that not only was the company in financial trouble and had lost touch with its customers, but that it was also barreling toward a strategy of disaster?

Pay for Performance

We made four major changes to our compensation system, This was all about pay for performance, not loyalty or tenure. It was all about differentiation: Differentiate our overall pay based on the marketplace; differentiate our increases based on individual performance and pay in the marketplace; differentiate our bonuses based on business performance and individual contributions; and differentiate our stock-option awards based on the critical skills of the individual and our risk of loss to competition.

Chapter 8

What we had done thus far was to put out the fire. Now we needed to rebuild the fundamental strategy of the company. That strategy, as I had been saying for six months, was going to revolve around my belief that the unique opportunity for IBM—our distinctive competence—was an ability to integrate all the parts for our customers. I first had to integrate IBM! So, as our strategy people worked on fleshing out short- and long-term plans, I turned my attention to three areas that, if not fundamentally changed, would disable any hope of a strategy built around integration: organization, brand image, and compensation.

remaking the organization

What drives IBM's unique complexity is twofold. First, every institution and almost every individual is an actual or potential customer of IBM. In my previous occupations, we could always identify a dozen or so key customers in one or two industries that really defined the marketplace. Not so at IBM. We had to be prepared to serve every institution, every industry, every type of government, large and small, around the globe. The second complexity factor is the rate and pace of the underlying technology. Again, in prior incarnations, my management team and I could identify four or five companies or organizations that had been our competitors for the past twenty years and would probably continue to be our competitors for the next twenty. In the information technology industry, literally thousands of new competitors sprang up every year—some in garages, some in universities, some in the hearts and minds of brilliant entrepreneurs. Product cycles that used to run for ten years dwindled to nine or ten months. New scientific discoveries overwhelmed planning and economic assumptions on a regular basis. As IBM grappled with this recipe for cacophony, the company evolved over the years in two directions: powerful geographic units that dealt with IBM's global reach, and powerful product divisions that dealt with the underlying technological forces. Missing from this structure was a customer view. The geographic regions, for the most part, protected their turf and attempted to own everything that went on in their region. The technological divisions dealt with what they thought could be built, or what they wanted to build, with little concern about customer needs or priorities. I was always flabbergasted to find that when we arrived in a new country (Malaysia or Singapore or Spain), we had to reestablish our credentials with the local IBM management. The fact that American Express was one of IBM's largest customers in the United States bore no value to IBM management in other countries. We had to start over each time, and their focus was on their own country profit and loss, not on any sense of IBM's global relationship with American Express. The same was true of products. Products used in the United States were not necessarily available in other parts of the world. It was enormously frustrating, but IBM seemed to be incapable of taking a global customer view or a technology view driven by customer requirements. Staff units abounded at every level. Outside the United States, the structure was even more rigid, like in Europe, with its 23,000 support people. Other IBMers practically had to ask permission to enter the territory of a country manager. Each country had its own independent system. In Europe alone we had 142 different financial systems. Customer data could not be tracked across the company. Employees belonged to their geography first, while IBM took a distant second place

Stock Ownership

Why? It appears that both Watsons had strong views that limited their ownership of IBMstock. Tom, Sr., never owned more than 5 percent of the company and refused to grant stock options to himself or other executives. He liked cash compensation and was paid a salary plus a percentage of the profits of the company. Tom, Jr., started a stock-option program in 1956, but it was limited to a very few executives. Regarding his own ownership, in his book, Father, Son, and Co., he stated that he stopped taking options in 1958 (he was CEO until 1971), believing that his $2 million worth of options at that time would be worth tens of millions of dollars in the future. Apparently he felt that was enough. It appears that for Tom Watson, Jr., stock options were intended solely to reward executives—and not to link executives to the company's shareholders I wanted IBMers to think and act like long-term shareholders—to feel the pressure from the marketplace to deploy assets and forge strategies that create competitive advantage. The market, over time, represents a brutally honest evaluator of relative performance, and what I needed was a strong incentive for IBMers to look at their company from the outside in. In the past, IBM was both the employer and the scorekeeper in the game. I needed my new colleagues to accept the fact that external forces—the stock market, competition, the changing demands of customers—had to drive our agenda, not the wishes and whims of our team. Nothing, however, was more important to fostering a one-for-all team environment than a common incentive compensation opportunity for large numbers of IBMers—an opportunity that was heavily dependent on how the overall corporation performed. I repeatedly told my team that we don't report software profits per share or PC profits per share—only IBM consolidated profits per share. There was only one financial scoreboard, and it was the stock price reported every day in the media. People had to understand that we all benefited when IBM as a whole did well and, more often than not, lost out when we functioned as a disjointed operation. we made three big changes to the IBM Stock Options Program. - First, stock options were offered to tens of thousands of IBMers for the first time. In 1992, only 1,300 IBMers (almost all high-level executives) received stock options. Nine years later, 72,500 IBMers had received options, and the number of shares going to nonexecutives was two times the amount executives received. Engineers, marketers, designers, and other employees around the globe had to act in sync if we were going to pull off the integration of IBM. I had to have all these people thinking as one cohesive unit, and granting stock options to thousands of them would help focus attention on a common goal, a common scorecard of performance. I needed to convince IBMers they were better off working as a singular enterprise—one team and not separate fiefdoms. If I could not do that, my entire strategy for turning around the company would fail. The second decision regarding stock options involved executives, and it was far more straightforward: We made stock-based compensation the largest element of executives' pay, downplaying annual cash compensation relative to stock appreciation potential. This is part of my management philosophy. Executives should know they don't accumulate wealth unless the long-term shareholders do the same. The third, and final, decision regarding options was also based on a view I hold very strongly. Executives at IBM were not going to be granted stock options unless they concurrently put their own money into direct ownership of company stock. We established guidelines that effectively said: "You have to have some skin in the game." No free ride.

Hold the Vision

I've had a lot of experience turning around troubled companies, and one of the first things I learned was that whatever hard or painful things you have to do, do them quickly and make sure everyone knows what you are doing and why. We made the announcement the morning of July 27 at a large meeting room in a midtown Manhattan hotel. It seemed there were two hot topics that year that guaranteed big press attendance—jobs and IBM. So when IBM made an announcement about jobs, it was a full house, with every TV network and major paper in the world present. This was basically my coming-out event—my first public discussion of what I had learned and planned to do at IBM. I worked hard on what I would say, but given IBM's longtime image of starchy formality, I decided to speak without notes or even a podium. No props. Nothing to lean on. Just me and what I had to say. "What I'd like to do now is put these announcements in some sort of perspective for you. There's been a lot of speculation as to when I'm going to deliver a vision of IBM, and what I'd like to say to all of you is that the last thing IBM needs right now is a vision." You could almost hear the reporters blink. I went on: "What IBM needs right now is a series of very tough-minded, market-driven, highly effective strategies for each of its businesses—strategies that deliver performance in the marketplace and shareholder value. And that's what we're working on. "Now, the number-one priority is to restore the company to profitability. I mean, if you're going to have a vision for a company, the first frame of that vision better be that you're making money and that the company has got its economics correct. "The second priority for the company," I said, "is to win the battle in the customers' premises. And we're going to do a lot of things in that regard, and again, they're not visions—they're people making things happen to serve customers." I continued: "Third, in the marketplace, we are moving to be much more aggressive in the client/server arena. Now, we do more client/server solutions than anybody else in the world, but we have been sort of typecast as the 'mainframe company.' Well, we are going to do even more in client/server. "Fourth, we are going to continue to be, in fact, the only full-service provider in the industry, but what our customers are telling us is they need IBM to be a full-solutions company. And we're going to do more and more of that and build the skills to get it done. "And lastly, we're doing a lot of things that I would just call 'customer responsiveness'—just being more attentive to the customer, faster cycle time, faster delivery time, and a higher quality of service." I said we didn't need a vision right now because I had discovered in my first ninety days on the job that IBM had file drawers full of vision statements. We had never missed predicting correctly a major technological trend in the industry. In fact, we were still inventing most of the technology that created those changes. The real issue was going out and making things happen every day in the marketplace. Our products weren't bad; our people were good people; our customers had long, successful relationships with us. We just weren't getting the job done. As I said frequently to IBMers those days, "If you don't like the pain, the only answer is to move the pain onto the backs of your competitors. They're the ones who have taken your market share. They're the ones who have taken away your net worth. They're the ones who made it more difficult to send your children and grandchildren to college. The answer is to shift the pain to them and return IBM to a world of success." - competitiveness Fixing IBM was all about execution. We had to stop looking for people to blame, stop tweaking the internal structure and systems. I wanted no excuses. I wanted no long-term projects that people could wait for that would somehow produce a magic turnaround. I wanted—IBMneeded—an enormous sense of urgency. The key strategic decisions that were already made before that eventful day were extraordinarily significant in the turnaround of IBM. They were: Keep the company together and not spin off the pieces. Reinvest in the mainframe. Remain in the core semiconductor technology business. Protect the fundamental R&D budget. Drive all we did from the customer back and turn IBM into a market-driven rather than an internally focused, process-driven enterprise. So the truly unique challenge of my first few months at IBM was to reject the knee-jerk responses that would have destroyed the company, and to focus on day-to-day execution, stabilizing the company while we sought growth strategies that would build on our unique position in the industry. Those were not to come until a year later.

Operation Bear Hug - 5

In late April we had a meeting of the Corporate Management Board. This was the group of fifty top executives with whom I had met in March, the day I was announced as the new CEO. I shared with them my observations after three weeks on the job. I started by saying that I saw a lot of positive things going on, particularly in research, product development, and in the can-do attitude of a number of people. However, there were troublesome areas, including: Loss of customer trust, supported by some disturbing customer ratings on quality. The mindless rush for decentralization, with managers leaping forward saying "make me a subsidiary." Cross-unit issues not being resolved quickly. Major tension in the organization over who controlled marketing and sales processes. A confusing and contentious performance measurement system, causing serious problems when closing sales with customers. A bewildering array of alliances that didn't make any sense to me. I announced Operation Bear Hug. Each of the fifty members of the senior management team was to visit a minimum of five of our biggest customers during the next three months. The executives were to listen, to show the customer that we cared, and to implement holding action as appropriate. Each of their direct reports (a total of more than 200 executives) was to do the same. For each Bear Hug visit, I asked that a one- to two-page report be sent to me and anyone else who could solve that customer's problems. I wanted these meetings to be a major step in reducing the customer perception that dealing with us was difficult. I also made it clear that there was no reason to stop at five customers. This was clearly an exam in which extra credit would be awarded. Bear Hug became a first step in IBM's cultural change. It was an important way for me to emphasize that we were going to build a company from the outside in and that the customer was going to drive everything we did in the company. It created quite a stir, and when people realized that I really did read every one of the reports, there was quick improvement in action and responsiveness. That same day in late April, there was a meeting of the Management Committee (its inside-IBM name was "the MC"). It is important to understand that a seat on the MC was the ultimate position of power that every IBM executive aspired to as the apex of his or her career. When I'd joined the company there were six members, including Akers and Kuehler. The MC met once or twice a week, usually in formal, all-day meetings with lots of presentations. Every major decision in the company was presented to this committee. Some members of the MC had only recently been appointed. To their utter—and probably crushing—dismay, I told them that afternoon, at my first meeting, that it was unlikely this structure would continue. I wanted to be more deeply involved personally in the decision making of the company, and I was uncomfortable with committees making decisions. While it wasn't officially disbanded until months later, the Management Committee, a dominant element of IBM's management system for decades, died in April 1993. In some ways, the rise and fall of the Management Committee symbolized the whole process of rigor mortis that had set in IBM. It seemed to me an odd way to manage a company—apparently centralized control, but in a way that ultimately diffused responsibility and leadership. The MC was part of IBM's famed contention system, in which the recommendations of powerful line units were contested by an equally powerful corporate staff. As I think about the complexity of the technology industry and the risks associated with important business and product decisions, this approach may very well have been a brilliant innovation when it was created. The problem was that over time, IBM people learned how to exploit the system to promote their own agendas. So by the early 1990s a system of true contention was apparently replaced by a system of prearranged consensus. Rather than have proposals debated, the corporate staff, without executives, worked out a consensus across the company at the lowest possible level. Consequently, what the Management Committee most often got to see was a single proposal that encompassed numerous compromises. Too often the MC's mission was a formality—a rubberstamp approval. In the course of everything else during the first weeks of my being on the job, I scheduled a number of one-on-one meetings with various leaders in the computer and telecommunications industry. They included John Malone of TCI, Bill Gates of Microsoft, Andy Grove of Intel, Chuck Exley of NCR, and Jim Manzi of Lotus. These meetings were very helpful to me, more for their insights into the industry than for anything said about IBM. And, as you might expect, many of my visitors arrived with thinly disguised agendas. We announced first-quarter operating results at the end of April, and they were dismal. Revenue had declined 7 percent. The gross profit margin had fallen more than 10 points—to 39.5 percent from 50 percent. The company's loss before taxes was $400 million. In the first quarter of the previous year, IBM had had a pretax profit of close to $1 billion. At the end of May I saw April's and they were sobering. Profit had declined another $400 million, for a total decline of $800 million for the first four months. Mainframe sales had dropped 43 percent during the same four months. Other large IBM businesses—software, maintenance, and financing—were all dependent, for the most part, on mainframe sales and, thus, were declining as well. The only part of the company that was growing was services, but it was a relatively small segment and not very profitable. Head count had declined slightly, from 302,000 at the beginning of the year to 298,000 at the end of April. Several business units, including application-specific software and our semiconductor businesses, were struggling. Almost as frustrating as the bad results was the fact that, while the corporation could add up its numbers quite well in total, the internal budgeting and financial management systems were full of holes. There was not one budget but two or three, because each element of the IBM organization matrix (e.g., the geographic units versus the product divisions) insisted on its own budget. As a result, there really wasn't single, consolidated budget. Allocations were constantly debated and changed, and accountability was extremely difficult to determine. Given the fact that the mainframe was still in free fall and so much of IBM's business at that point depended on the mainframe, the outlook was extremely precarious. We were shoring up the balance sheet as best we could with financing, but something had to be done to stabilize the operations. There was a very short honeymoon with the media—understandably, given the nature of the story, but also because it's impossible to transform a badly ailing company under the glare of daily press briefings and publicity. There's too much work to do inside without having to contend with a daily progress report in the papers focusing everyone on results that take months and years, and not hours and days, to achieve. A reporter from the Associated Press wanted to follow me around all day my first day. USA Today said it was working on graphics for a daily progress chart. We said, "No, thank you. We're going dark for a bit while we assess the task at hand." That was not a popular way to answer reporters who were used to writing daily stories about the problems at IBM. I brought with me to IBM from the first day my communications executive, David Kalis. David had been with me for many years, going back to American Express in the 1980s. He was, in my opinion, the best public relations executive in America. He was also the first true PR professional in IBM's history to hold the top communications job. For decades the position had been a rotation slot for sales executives being groomed for other top jobs. He inherited a shambles at IBM. There were some talented people, but the communications department was staffed for the most part with well-meaning but untrained employees. However, even if they had all been professionals, it would have been impossible for them to perform, given the foxhole mentality that permeated the company in 1993. Typically, IBM executives believed that the only real problem the company had was the daily beating in was getting in the press. They felt that if we had more positive stories in the media, IBM would return to profitability and everything would be normal again. - More than anything else, I wanted time, but I knew I didn't have a lot of it. Pressure was building—in the media, on the Street, and with shareholders. A lot had been done, but I knew I would have to go public, and do it soon, with my plans to fix IBM.

Reengineer How We Did Business

These early expense cuts were necessary to keep the company alive, but I knew they were far from sufficient to create a vibrant, ongoing, successful enterprise. We needed fundamental change in the way we carried out almost every process at IBM. All of our business processes were cumbersome and highly expensive. So in 1993 we began what ultimately became one of the largest, if not the largest, reengineering projects ever undertaken by a multinational corporation. It would last a decade and, as it unfolded, change almost every management process inside IBM. Jerry York led the effort. By addressing some of the obvious excesses, he had already cut $2.8 billion from our expenses that year alone. Beyond the obvious, however, the overall task was enormous and daunting. We were bloated. We were inefficient. We had piled redundancy on top of redundancy. We were running inventory systems, accounting systems, fulfillment systems, and distribution systems that were all, to a greater or lesser degree, the mutant offspring of systems built in the early mainframe days and then adapted and patched together to fit the needs of one of twenty-four independent business units. Today IBM has one Chief Information Officer. Back then we had, by actual count, 128 people with CIO in their titles—all of them managing their own local systems architectures and funding home-grown applications. The result was the business equivalent of the railroad systems of the nineteenth century—different tracks, different gauges, different specifications for the rolling stock. If we had a financial issue that required the cooperation of several business units to resolve, we had no common way of talking about it because we were maintaining 266 different general ledger systems. At one time our HR systems were so rigid that you actually had to be fired by one division to be employed by another. Most of the work centered on eleven areas. The first six we called the core initiatives, meaning those parts of the business that dealt most with the outside world: hardware development, software development (later, these two units were combined into integrated product development), fulfillment, integrated supply chain, customer relationship management, and services. The rest focused on internal processes, called enabling initiatives: human resources, procurement, finance, real estate, and surprisingly—at least at first glance—information technology. The systems were antiquated and couldn't communicate with one another. We had hundreds of data centers and networks scattered around the world; many of them were largely dormant or being used inefficiently. We saved $2 billion in IT expenses by the end of 1995. We went from 155 data centers to 16, and we consolidated 31 internal communications networks into a single one. We sold 8,000 acres of undeveloped land. We sold first-class real estate that we didn't need, like the tallest building in Atlanta. We hired outside providers and cut full-time staff to 42. Around our corporate headquarters in Westchester County, New York, we consolidated twenty-one locations into five. From 1994 to 1998, the total savings from these reengineering projects was $9.5 billion. Since the reengineering work began, we've achieved more than $14 billion in overall savings. Hardware development was reduced from four years to an average of sixteen months—and for some products, it's far faster. We improved on-time product delivery rates from 30 percent in 1995 to 95 percent in 2001; reduced inventory carrying costs by $80 million, write-offs by $600 million, delivery costs by $270 million; and avoided materials costs of close to $15 billion.

One Voice, One Agency

Abby decided to consolidate all of IBM's advertising relationships into a single agency—not just in the United States, but around the world. At the time, it was the largest advertising consolidation in history. Few people knew about her plan at first—a handful of people inside IBM, and only the chief executives of the agencies under consideration. There was no formal advertising review process. No creative development. No presentations. Abby narrowed down the list to four agencies, including just one that was then handling any of the IBM accounts. Over four weeks, she held a series of two-day meetings in hotels (with people on both sides using aliases) to gauge chemistry, thinking, and how each would approach a challenge this big. She and her small team of IBMers unanimously settled on Ogilvy & Mather, which had solid worldwide expertise and experience. That was exactly what IBM needed, since the agency would manage advertising for all of our products and services, as well as our overall brand, around the world. The campaign reaffirmed important messages: IBM was global, and we were staying together as a world-class integrator. At the same time, it signaled that we were a very different company—able to change and make bold decisions, just as we had done with the decision to consolidate; able to move quickly; able to take risks and do innovative things; and we were more accessible. The campaign humanized our brand.

A Distasteful Necessity

Also, it sent a message to everyone—including the executives who were excluded—that we really intended to tie our performance to share price and that we wanted to align our interests directly with those of the shareholders. And, finally, it sent a message, the first of many to follow, that compensation at IBM was going to be performance-based, not simply length-of-employment-based.

Chapter 7

As 1993 drew to a close, I turned my attention increasingly to the overall IBMteam, my top management team, and our Board of Directors. We had many big-stakes business decisions to make, so deciding whom I was going to trust was critically important. There is no easy way to do this. Building a management team is something you have to do business by business, person by person, day by day. I read their reports. I watched them interact with customers. I sat with them in meetings and evaluated the clarity of their thinking and whether they had the courage of their convictions or were weathervanes ready to shift direction if I scowled or raised an eyebrow. I needed to know they were comfortable discussing their business problems candidly with me. When I disbanded the Management Committee during my first month, it was a loud statement that there were going to be major changes in the managerial culture of IBM. However, I still needed a top-level executive committee to work with me to run the company, so in September I created the Corporate Executive Committee, which overnight was widely renamed "the CEC." It had eleven members, including myself. - It would not accept delegation of problem solving. It would not sit through presentations or make decisions for the business units. Its focus would be solely on policy issues that cut across multiple units. At the same time, I created a Worldwide Management Council (WMC) to encourage communication among our businesses. The WMC had thirty-five members and was to meet four or five times a year in two-day sessions to discuss operating unit results and company-wide initiatives. In my mind, however, its primary purpose was to get the executive team working together as a group with common goals—and not to act as some United Nations of sovereign countries. These meetings represented a chance for our top executives to grab one another and say "I've got a great idea, but I need your help."

Employee Communications

At the same time we were remaking our board and senior management system, it was essential to open up a clear and continuous line of communications with IBM employees. The sine qua non of any successful corporate transformation is public acknowledgment of the existence of a crisis. If employees do not believe a crisis exists, they will not make the sacrifices that are necessary to change. Nobody likes change. Whether you are a senior executive or an entry-level employee, change represents uncertainty and, potentially, pain. So there must be a crisis, and it is the job of the CEO to define and communicate that crisis, its magnitude, its severity, and its impact. Just as important, the CEO must also be able to communicate how to end the crisis—the new strategy, the new company model, the new culture. All of this takes enormous commitment from the CEO to communicate, communicate, and communicate some more. No institutional transformation takes place, I believe, without a multi-year commitment by the CEO to put himself or herself constantly in front of employees and speak in plain, simple, compelling language that drives conviction and action throughout the organization. This was a crisis we all faced. We needed to start understanding ourselves as one enterprise, driven by one coherent idea. The only person who could communicate that was the CEO—me. I also discovered the power of IBM's internal messaging system, and so I began to send employees "Dear Colleague" letters. They were a very important part of my management system at IBM. I sent the first one six days after I'd arrived:

Breaking Up the Fiefdoms

I declared war on the geographic fiefdoms. I decided we would organize the company around global industry teams. I had first encountered the power of this kind of structure when I had been a very young consultant at McKinsey. We'd conducted a seminal organization study for what was then Citibank. The result was to transform Citibank from a geographical organization to a global, customer-oriented organization, and it became the model for most financial institutions over the next decade. With this model in mind, I asked Ned Lautenbach, then head of all non-United States sales organizations, to build a customer-oriented organization. It was a painful and sometimes tumultuous process to get the organization to embrace this new direction, but by mid-1995 we were ready to implement it. We broke our customer base into twelve groups: eleven industries (such as banking, government, insurance, distribution, and manufacturing) and a final category covering small- and medium-size businesses. We assigned all of the accounts to these industry groups and announced that the groups would be in charge of all budgets and personnel. The response from the country managers was swift and predictable: "It will never work." And: "You will destroy the company!" Although we implemented the new industry structure in mid-1995, it was never fully accepted until at least three years later. Regional heads clung to the old system, sometimes out of mutiny, but more often out of tradition. We needed to do a massive shift of resources, systems, and processes to make the new system work. Building an organizational plan was easy. It took three years of hard work to implement the plan, and implement it well.

other changes

I've described in detail the changes made to the stock-option program principally because I wanted to underscore my belief that you can't transform institutions if the incentive programs are not aligned with your new strategy. Prior to my arrival, bonuses were paid to executives based solely on the performance of their individual units. In other words, if your operation did well but the overall corporation did poorly, it didn't matter. You still got a good bonus. This encouraged a me-centered culture that ran counter to what I was trying to create at IBM. Therefore, beginning in 1994, we instituted a huge change. All executives would have some portion of their annual bonus determined by IBM's overall performance. The most unusual part of this plan involved the people who reported directly to me—the highest-level executives, including those who ran all our business units. From then on, their bonuses were to be based entirely on the company's overall performance. In other words, the person running the Services Group or the Hardware Group, had his or her bonus determined not by how well the unit performed, but by IBM's consolidated results. Executives at the next level down were paid 60 percent based on consolidated IBM results, 40 percent on their business unit results. The system cascaded down from there. nothing else had the impact that this move had in sending a message throughout the company: "We need to work together as a team. Gerstner's not kidding. He really wants us to make integration the centerpiece of our new strategy." The variable pay amounts were also tied directly to overall IBM performance to ensure that everybody knew that if they worked hard at collaboration with colleagues, doing so would pay off for them. Believe me, I would have loved to continue the employee country clubs and the no-cost medical plans. We cut back on these plans because the company could no longer afford the level of benefits. The high profit margins of the 1970s and 1980s were gone—forever. We were fighting for our lives. None of our competitors offered anything close to the IBM benefits package. (Even now, after all the changes we made, IBM benefits programs are among the most generous of any United States-based multinational corporation.) More important, IBMers at all levels embraced the overall shift in compensation philosophy—fewer paternal benefits, but a far larger opportunity for everyone to participate in the rewards of our success through variable pay programs, stock-purchase and -option plans, and performance-based salary increases.

what the experts had to say

Most prominent were two guys who seemed to pop up everywhere you looked, in print and on TV—Charles Morris and Charles Ferguson. They had written a book, Computer Wars, that took a grim view of IBM's prospects. They stated: "There is a serious possibility that IBM is finished as a force in the industry. Bill Gates, the software tycoon whom everybody in the industry loves to hate, denies having said in an unguarded moment that IBM 'will fold in seven years.' But Gates may be right. IBM is now an also-ran in almost every major computer technology introduced since 1980....Traditional big computers are not going to disappear overnight, but they are old technology, and the realm in which they hold sway is steadily shrinking. The brontosaurus moved deeper into the swamps when the mammals took over the forests, but one day it ran out of swamps." Their book concluded that "the question for the present is whether IBM can survive. From our analysis thus far, it is clear that we think its prospects are very bleak." Even The Economist—understated and reliable—over the span of six weeks, published three major stories and one lengthy editorial on IBM's problems. "Two questions still hang over the company," its editors wrote. "In an industry driven by rapid technological change and swarming with smaller, nimbler firms, can a company of IBM's size, however organized, react quickly enough to compete? And can IBM earn enough from expanding market segments such as computer services, software, and consulting to offset the horrifying decline in mainframe sales, from which it has always made most of its money? "The answer to both questions may be no." And, said the usually sober Economist, "IBM's humiliation is already being viewed by some as a defeat for America."

Drinking from a Fire Hose - 3

On April 1, 1993, I began my IBM career (perhaps appropriately, April Fools' Day). IBM's stock stood at $13.1 An op-ed piece in The New York Times greeted me with yet more advice on how to fix the company: "IBM has plenty of brains and button-downs. What it needs is bravado." An IBM company car picked me up at my home in Connecticut at 6:45 A.M. and drove me not to the headquarters building, in Armonk, but to another of the many office complexes IBM owned at the time in Westchester County, New York. Consistent with my message to the senior management team the previous week, Ned Lautenbach, who then headed all of sales outside the United States (what IBM called "World Trade"), invited me to a meeting of all the country general managers that happened to be scheduled for that morning. And so it was at my first meeting on my first day at IBM that I encountered its solidly entrenched and highly revered administrative assistant program. Hundreds, if not thousands, of IBM middle- and senior-level executives had assistants assigned to them, drawn from the ranks of the best and brightest of the up-and-coming managers. The tasks were varied, but from what I could understand, AAs had primarily administrative duties and even, at times, secretarial chores. For the most part, AAs organized things, took notes, watched, and, hopefully, learned. What they didn't do was interact with customers, learn the guts of the business, or develop leadership competencies. However, several such assignments in a career were de rigueur if one wanted to ascend to IBM senior management. I broke away from the meeting late that morning and went to Armonk headquarters to have lunch with Jack Kuehler. Jack was president of the company, a member of the board, and John Akers's chief technologist. Kuehler controlled all key technology decisions made in the company. Over lunch he was congenial and easygoing and offered his support. Consistent with my Akers discussion, it was clear that IBM had an obsessive focus on recapturing the ground lost to Microsoft and Intel in the PC world. Jack was almost evangelistic in describing the combined technical strategy behind PowerPC and OS/2—two IBM products that were developed to regain what had been lost to Intel in microprocessors and Microsoft in PC software. The technology plan was sweeping and comprehensive. It sounded exciting, but I had no idea whether it had any chance of succeeding. I returned once again to Armonk to tape a video message for employees, then ended the day with the head of IBM's human resources department, the legendary Walt Burdick. What perhaps is not as well known is that Burdick was a powerful force behind the throne, one of IBM's highest-paid executives for many years and a major player in creating and enforcing the dominant elements of IBM's culture. His primary interests were structure and process. In fact, after his departure, someone gave me one of the most remarkable documents I have ever seen. Roughly sixty pages long, it is entitled "On Being the Administrative Assistant to W. E. Burdick, Vice President, Personnel, Plans, and Programs." It was written on March 17, 1975, and illustrated some of the suffocating extremes one could find all too easily in the IBMculture. The instructions for an AA in Burdick's office included: - refer back to ch. Burdick and I spent nearly all of our time that day discussing two critical searches that were under way before I had joined IBM: the search for Burdick's replacement, and the search for a Chief Financial Officer (CFO). The prior CFO, Frank Metz, had retired under pressure in January following the same board meeting that had created the CEO search committee. Nothing was more important to me on that first day than filling these jobs. Parachuting into a $65 billion company that was hemorrhaging cash and trying to turn it around is a daunting enough task. Trying to do it without a good CFO and HR director is impossible. By 6:30 P.M., I finally had the first quiet time of the day. I sat with my longtime assistant, Isabelle Cummins, whom I had talked into coming to IBM despite her desire to retire. Isabelle is an extraordinary person of enormous talents and one of the many heroes of this book. Had she grown up in a later era, she would have been a senior female executive in corporate America, and one of the best. However, that was not the case, and instead she had been my teammate for fifteen years before I came to IBM. I talked her out of retiring because I knew it would have been impossible for me to make it through the early IBM crises—the toughest ones—if she had not been there. At the end of that first day, we shared our experiences and both of us felt totally overwhelmed. (Isabelle, who had always worked with me one-on-one, discovered that nine people, including several AAs and one person responsible for creating and maintaining organization charts, reported to her.)

The Official Election

On Tuesday of the following week, March 30, 1993, I attended the regularly scheduled IBM board meeting. It was at this gathering that I was elected Chairman of the Board and Chief Executive Officer, effective to begin two days later. There are several things I remember well from that first meeting. The first was that there was an executive committee. Three of the eight members were current or former employees. I was taken by the fact that this board-within-a-board discussed in more detail the financial outlook for the company than the subsequent discussion held with the full Board of Directors. - 2 board members doubted of him being decided as the new CEO The full board meeting focused on a wide range of subjects. It seemed to me from the agenda that it was a business-as-usual board meeting. There was a presentation from the Storage Division, which was being renamed AdStar as part of the overall corporate strategy to spin off the operating units. There were reports on business from the heads of domestic and international sales, discussion of a regulatory filing, and the approval of a proposed $440 million acquisition. If the directors felt there was a crisis, they were politely hiding it from me. The meeting got a bit more animated during a report on financial affairs. Among the items reported was that the March quarter's gross margin on hardware had declined nineteen points from the prior year and that System/390 mainframe prices had declined 58 percent over the same period. The projection was for a loss of 50 cents a share for the quarter ending the next day. The cash situation was deteriorating fast. A major item of business was to approve a new financing plan authorizing the company to increase committed lines of bank credit to $4.7 billion and to raise $3 billion through the issuance of preferred stock and/or debt and securitization of United States trade receivables (selling, at a discount, "IOUS" from customers in order to get cash sooner). - It was clear there was a high degree of uncertainty surrounding the financial projections. The meeting ended. There were polite statements of "good luck" and "glad you're here," and everyone left. John Akers and I then met to talk about the company. John and I had served together on the New York Times Company Board of Directors for several years, saw each other frequently at CEO-level events, and had a solid personal relationship prior to his departure from IBM. We were as comfortable as two people could be under the circumstances. We talked mostly about people. Regarding business issues, John was preoccupied that day with IBM's microelectronics business. I learned that the company was deep into discussions with Motorola to form a joint venture and, in so doing, secure a partial exit from what John called the "technology business." I asked how imminent the decision was, and he said "very." Somewhat related to the Motorola deal was a proposal to license manufacturing rights for Intel microprocessors. He said the basic research unit was not affordable and needed to be downsized. He was quite concerned about IBM's software business, mainframe business, and midrange products. As I look back at my notes, it is clear he understood most, if not all, of the business issues we tackled over the ensuing years. What's striking from my notes is the absence of any mention of culture, teamwork, customers, or leadership—the elements that turned out to be the toughest challenges at IBM. - John left to a office in Connecticut

Building a New Board

One of the most revolutionary, but least noticed, changes in the early days involved the Board of Directors. When I arrived there were eighteen directors, including four insiders: John Akers, Jack Kuehler, John Opel (IBM's CEO before Akers), and Paul Rizzo. I thought this was an unwieldy size with too many insiders, particularly given the dominance of current and former employees on the powerful Executive Committee. With my encouragement, the Directors' Committee decided it would announce that the board should be reduced in size to make it more manageable. At the same time, we would add new people to bring in some different perspectives. After the announcement, it didn't take anyone more than a minute to realize that meant a significant amount of retirements would be in order. Starting in 1993 we began introducing newcomers, beginning with Chuck Knight, the chairman and CEO of Emerson Electric Co. I had known Chuck as a fellow board member at Caterpillar. He was tough and demanding of himself, the CEO, and his fellow board members, and I admired that. He was highly respected as one of the premier CEOs in America, and his selection was the important first step in the rebuilding of the board. In 1994 we added Chuck Vest, president of MIT and Alex Trotman, chairman and CEO of Ford Motor Company. Cathie Black, president and CEO of the Newspaper Association of America, and Lou Noto, chairman and CEO of Mobil Corporation, joined in 1995. They were followed by Juergen Dormann, chairman of Hoechst AG, in 1996. Minoru Makihara, president of Mitsubishi Corporation and one of the most senior business executives in Japan, joined us in 1997; Ken Chenault, president and chief operating officer (and later chairman and CEO) of American Express in 1998; and Sidney Taurel, chairman and CEO of Eli Lilly and Company in 2001.

The Shareholders' Meeting

Perhaps the most traumatic event of my first month at IBM was the annual shareholders' meeting. It had been scheduled, I'm sure, several years in advance for April 26 in Tampa, Florida. Needless to say, it was a daunting challenge to chair my first shareholders' meeting when the company had such major and visible problems. I had been there for only three weeks, could barely identify the products, let alone explain what they did, or, God forbid, describe the technologies inside them. Moreover, it was clear IBM's shareholders were angry and out for blood—perhaps deservedly so. IBM stock had dropped from a high of $43 a share in 1987 to $12 a share the day of the shareholders' meeting. That was less than half its price at the previous year's meeting. There were 2,300 shareholders waiting impatiently for the show to start when I walked out onto the stage at 10 A.M. that day—in the biggest convention hall I had ever seen. You couldn't help but notice a sea of white hair—obviously, a lot of retirees in Florida owned IBM stock. I made a brief speech in which I asked for some patience, but I made it clear that I was going to move quickly, make all changes necessary, and return the company's focus to the customer. - I remember flying back to New York alone that evening on an IBM corporate airplane. My thoughts turned to the Board of Directors. It was clear from the annual meeting that board changes would be necessary—and sooner rather than later.

Ch 10

The "old" IBM had very fixed views about compensation; much of it, I suspect, had been derived from the management philosophy of Tom Watson, Jr., the man who had created the great IBM of the 1960s and 1970s. Since the company's performance during that time had been so extraordinary, it would be foolish to say it was not an effective compensation system. First, compensation at all levels consisted predominantly of salary. Relatively little was paid in bonus, stock options, or performance units. Second, there was little differentiation in the system. Third, there was a heavy emphasis on benefits. IBM was a very paternal organization and provided generously for all forms of employee support. Pensions, medical benefits, employee country clubs, a commitment to lifelong employment, outstanding educational opportunities—all were among the best of any United States company. From what I can tell, there was little benchmarking of IBM's practices vis-à-vis other companies. In a sense IBM was the benchmark and decided on its own what it wanted to do. Basically it was a family-oriented, protective environment where equality and sharing were valued over performance-driven differentiation.

the customer meeting at Chantilly

This meeting had been scheduled well before my arrival at the company. Nearly 175 chief information officers of the largest United States companies were coming to hear what was new at IBM. They represented many of the most important customers IBM had—and they could make or break us. On Tuesday night, I met with several CIOs at dinner, and they shared the same perspective I had heard in Europe. They were angry at IBM—perturbed that we had let the myth that "the mainframe was dead" grow and prosper. The PC bigots had convinced the media that the world's great IT infrastructure—the back offices that ran banks, airlines, utilities, and the like—could somehow be moved to desktop computers. These CIOs knew this line of thinking wasn't true, and they were angry at IBM for not defending their position. They were upset about some other things, too, like mainframe pricing for both hardware and software. They were irritated by the bureaucracy at IBM and by how difficult it was to get integration—integration of a solution or integration across geographies. I addressed the issue of the mainframe head-on. I said I agreed with the CIOs that we had failed in our responsibility to define its role in a PC world, that our prices were high, and that there was no question that we were bureaucratic. I shared with them some of my bad experiences with IBM as communicated to me by my CIOs when I was at American Express and RJR Nabisco. - I laid out my expectations: We would redefine IBM and its priorties starting with the customer. We would give our laboratories free rein and deliver open, distributed, user-based solutions. We would recommit to quality, be easier to work with, and reestablish a leadership position (but not the old dominance) in the industry. Everything at IBM would begin with listening to our customers and delivering the performance they expected. Finally, I made the big mainframe pricing announcement. Our team had been working hard over the past two weeks and literally was still putting the proposal together the night before this big meeting. I didn't delve into the details—that was done later in the meeting—but I made it very clear that mainframe prices, both hardware and software, were coming down, and coming down quickly. The price of a unit of mainframe processing moved from $63,000 that month to less than $2,500 seven years later, an incredible 96-percent decline. Mainframe software price/performance improved, on average, 20 percent a year for each of the next six years. This program, probably more than any other, save IBM. Over the short term it raised the risk of insolvency as it drained billions of dollars of potential revenue and profits from the company. Had the strategy not worked, I would have been the CEO who had presided over the demise of the company—Louis the Last. However, the plan did work. IBM mainframe capacity shipped to customers had declined 15 percent in 1993. By 1994, it had grown 41 percent, in 1995 it had grown 60 percent, followed by 47 percent in 1996, 29 percent in 1997 63 percent in 1998, 6 percent in 1999, 25 percent in 2000, and 34 percent in 2001. This represented a staggering turnaround. While pricing was not the only reason IBM survived, it would not have happened had we not made this risky move.

changing our economic model

Unfortunately, in IBM's case the relationships were all wrong. Revenue was slowing because the company was so dependent on the mainframe, and mainframe sales were declining. Gross profit margin was sinking like a stone because we had to reduce mainframe prices in order to compete. The only way to stabilize the ship was to ensure that expenses were going down faster than the decline in gross profit. Expenses were a major problem. After months of hard work, CFO Jerry York and his team determined that IBM's expense-to-revenue ratio—i.e., how much expense is required to produce a dollar of revenue—was wildly out of range with those of our competitors. On average, our competitors were spending 31 cents to produce $1 of revenue, while we were spending 42 cents for the same end. When we multiplied this inefficiency times the total revenue of the company, we discovered that we had a $7 billion expense problem! Since the repositioning of the mainframe was a long-term challenge and we had to reduce mainframe prices and thus our gross profit, the only way to save the company, at least in the short term, was to slash uncompetitive levels of expenses. So we made the decision to launch a massive program of expense reduction—$8.9 billion in total. Unfortunately, this necessitated, among other things, reducing our employment by 35,000 people, in addition to the 45,000 people whom John Akers had already laid off in 1992. That meant additional pain for everyone, but this was a matter of survival, not choice.